Wednesday, April 10, 2013

Social Security, Chained CPI and the Obama Budget

The Obama budget appears to mirror the proposals that Obama had previously put forward for a so-called "Grand Bargain" to reduce the deficit. It includes proposals for closing tax loopholes, increasing taxes (mostly on wealthy individuals), and it includes some proposals for spending cuts.

One of the centerpieces of proposed cost reductions in Social Security, probably by limiting cost of living increases to a less generous definition of inflation, known as the "chained CPI."

The current measure, known as "CPI-W," calculates inflation by following the increase in a "shopping basket" of common purchases. Chained CPI is similar, but it takes into account the sorts of substitutions that consumers might make in response to increasing prices.

Other measures of inflation are also possible, such as indexing Social Security payments to growth in the Gross Domestic Product (GDP), a measurement of the overall economy. Or payments can be indexed to the growth in the median worker's wages.

Social Security Trust Fund

A common refrain by the AARP and others is that Social Security is "solvent." By this, they mean that the money in the "Social Security Trust Fund" will continue to fund benefits to the 2030s or so. In fact, the "trust fund" consists of what amounts to IOUs, as the Unified Budget allowed the Federal Government to mask the true size of the budget deficit by borrowing agains future taxpayers' payments.

In effect, the next generation of taxpayers will need to be double-taxed, to pay both the normal pension payments and additional taxes to pay for the deficit that was financed by raiding the trust fund.

The realization that the Baby Boom generation effectively financed deficit spending at the cost of the generation that will have to pay their social security is sometimes referred to as "generational theft".

Other Options

There are other options for achieving Social Security savings.

One is to adjust the so-called "primary insurance amount" (PIA) formula to give less of a benefit to upper-income earners. Social Security payments are progressive in the sense that payments are not proportional to taxes paid into the system, but further adjustments to the formula can result in cost savings that disproportionately affect upper income earners.

Another is to use so-called "progressive price indexing" (PPI), in which upper income earners are indexed differently than lower income earners.